Some say that history repeats itself. Are we going to see a repeat of the roaring ’20s a hundred years later?
The Spanish flu, also known as the 1918 influenza pandemic, lasted from February 1918 to April 2020. It infected 500 million people, or about a third of the world’s population. Scientists estimate that between 20 million to 50 million people died because of the Spanish flu, or about 1.3% to 3.3% of the world’s population back then. (Note, the number of deaths could have been as high as 100 million, which would be around 6.7% of the population).
COVID-19 started around December 2020 and is still ongoing. According to Johns Hopkins, the virus has infected over 118 million people and over 2.6 million have died. With the world’s population of around 7.87 billion, this means COVID-19 has infected about 1.5% of the world’s population so far. The infection rate probably would have been a lot higher if countries didn’t do drastic measures like stay-home orders or city-wide lockdowns.
While the pandemic may linger into late 2021 or even next year, with the availability of vaccines, there appears light at the end of the tunnel.
The case for a roaring ‘20s
After the Spanish flu, we saw the Roaring Twenties, a period of economic prosperity. A boom in construction, the rapid growth of consumer goods, and people willingly spending money like mad drove the stock market higher and higher.
Due to COVID-19, people have been staying home and avoiding non-essential travel. Since you can’t go anywhere, household savings have increased over the past year. In fact, studies have shown that household savings in Canada have skyrocketed during this global pandemic.
What will happen when this global pandemic is finally over and bars, restaurants, clubs, casinos, bars, etc. are fully open without any sort of restrictions? Will people spend money like crazy after saving it for months so they can enjoy things that they missed during the pandemic?
The interest rates are already very low in Canada and this seems to be heating up the housing market. Bidding wars are happening more and more here in Metro Vancouver, and houses are being sold above the asking price!
We saw the stock market tanking last March amidst the pandemic uncertainties. Oddly enough, after the stock market bottomed around late March, the recovery has been fast and furious.
If people were to spend like there’s no tomorrow after the pandemic ends and there seem to be some indications that a roaring ‘20s may happen, it is possible the increased spending will drive the stock market to new highs.
The case against a roaring ‘20s
While people may spend more money after the COVID-19 pandemic is over, there are some things that indicate a roaring ‘20s or a bull market may not happen.
Throughout the past year, we’ve seen governments providing financial support to their citizens. Here in Canada, people affected by COVID-19 have access to the Canada Emergency Response Benefit (CERB). The maximum number of weeks available for Employment Insurance (EI) was also increased. Similar measures have been done in other countries too.
After handing out a lot of money, what happens once the pandemic is over? The governments will probably increase taxes to balance their budgets. I certainly don’t see a case of taxes going down. Would the increase in taxes make people think twice about spending their hard-earned money?
Furthermore, when the stock market started to soar, the cyclically adjusted price-to-earnings ratio (CAPE) was below 6. The stock market’s CAPE is much higher than 6.
Can the market go even higher when the CAPE ratio is already high? Perhaps it might not be possible for the market to rally 250% like what we saw from 1920 to 1929 peak.
What can we do as investors?
Regardless of whether the roaring ’20s happens again or not, what can we do as investors?
First, let me set the record straight – I don’t believe in timing the market. I believe in time in the market. Investing in profitable companies in the long term is the way to go. One can either invest in these companies via a broad market index fund, like one of the all-equity ETFs, invest in individual stocks, or a hybrid approach like what we’re doing.
Let me elaborate on what I mean by time in the market. To me, time in the market simply means investing regularly and staying fully invested rather than jumping in and out of the market because of market volatility. Time in the market is about staying invested throughout the good times and the bad times.
Lately, I have heard more of the “oh the market is too high, I don’t want to invest now” talks. If you think the stock market is high now, just wait till the bull market continues for another decade. Things will certainly get more expensive.
The thing is, whether something is expensive or cheap is completely relative. It is entirely up to your personal perception.
For example, when I first purchased my first DSLR package, a Canon XSi camera with the 18-55 IS kit lens for $949 plus taxes, I thought the DSLR was ridiculously expensive and couldn’t imagine myself buying full frame Canon cameras that were over $1,000.
A few years later, I started buying more expensive Canon camera lenses that were costing over $1,000. My perspective of “expensive” camera gear changed. Lenses and cameras costing less than $1,000 were considered cheap to me!
Similar things can happen to stocks too. When the market keeps going up and the hype continues to build, people have a tendency to forget the fundamentals.
Just what exactly does an expensive stock mean? Well, people have different interpretations.
Say Royal Bank share price is at $130, an all time price high. Some people look at the historical price and immediately conclude the stock is too expensive. But is it really too expensive if you only look at the stock price alone? This is definitely the wrong way to value a stock.
One way to determine whether a stock is expensive or not is to look at the PE ratio and compare to the historical PE ratio. Take two scenarios:
Scenario 1. Royal Bank is at $130. The PE ratio is 20. The historical PE ratio is 12.
Scenario 2. Royal Bank is at $130. The PE ratio is 8. The historical PE ratio is 12.
Does that change your perspective on whether Royal Bank is expensive or not? In scenario one, I’d say that Royal Bank is overpriced compared to the historical data and I would not be buying shares. In scenario two, I’d say that Royal Bank is cheaper compared to the historical data and I’d be loading up on Royal Bank shares.
But this is a very simplistic view. To really determine whether a stock is expensive or cheap requires much more research than just a quick look at the PE ratio. One usually needs to take a look at other ratios like PEG, debt-equity, price to book, ROE, etc. It is also important to read quarterly and annual reports too.
If a stock price keeps going up but the company’s profitability keeps going up at a faster rate, then it is difficult to conclude the stock is expensive.
Going back to my idea of time in the market, I think it is far better to invest whenever you have money available. If the market goes for a run, you’d benefit from it. For example, if you had invested $10,000 in the S&P 500 in late Feb 2009, you would have done much better than if you had invested $10,000 in the S&P 500 three years later.
The magic of compound interest also comes in effect the earlier you can invest your hard-earned money. If you invest $500 per month between the age of 18 to 28 for a total of $60,000 and stop investing completely. Assuming an annual return of 8%, at 65, you’d end up with $1.56 million dollars.
But if you start later, say at 50 and invest $2,000 per month until you are 65, for a total of $360,000. At the same annual return of 8%, you’d only end up with $679,557 at age 65.
On the flip side, if the market becomes stagnant or the bear enters. Investing regularly will allow you to dollar cost average. It is simply impossible to know when the market will hit the bottom. Could you possibly predict with 100% certainty that March 23, 2020, was going to be the bottom of the pandemic correction?
So, while we are still in a global pandemic and most of us are staying home, avoiding travel, and saving money, it makes sense to invest that money into the stock market. Continue buying a broad market index fund, or continue buying individual stocks.
Once the pandemic is over, continue saving money and investing. Don’t suddenly change your spending and investing habits.
Remember, only invest in the stock market with money that you do not need for at least the next three years. And always ask yourself these three key questions before you invest.
Are we going to see a repeat of the roaring ‘20s? I don’t have a crystal ball, so my guess is as good as yours. But I plan to continue to invest regularly like what we have been doing for more than ten years.
What do you plan to do?